Financial Assessment is still working. FHA’s new policy of requiring a financial assessment (“FA”) of the borrower’s ability to pay has cut tax and insurance default by nearly three quarters and serious defaults by almost two-thirds. These results continue to validate the encouraging data we shared in previous quarters.
FHA’s objective for the new Financial Assessment regulations was to reduce the persistent defaults, especially Tax and Insurance defaults, plaguing the HECM program. As FHA put it, “… an increasing number of tax and hazard insurance defaults by mortgagors led FHA to establish … a requirement for a Financial Assessment of a potential mortgagor’s financial capacity and willingness to comply with mortgage provisions.” Financial Assessment requirements became effective for HECMs with case numbers issued on or after April 27, 2015. Since then, HECM lenders must make a financial assessment of the borrower’s ability to meet their obligations, including property taxes and home insurance. Tax and Insurance (T&I) and other defaults can lead to foreclosure and result in significant losses to FHA, HMBS issuers and other HECM investors. Defaults rose steadily during the financial crisis and have remained a thorn in the side of the program.
It’s been over two years since Financial Assessment began, so we can measure the effect of this policy by comparing the default rates of loans originated before and after the FA rule was implemented. With this in mind, New View Advisors looked at a data set of just over 125,000 HECM loans, comparing loans originated in the immediate post-FA period from July 2015 through September 2017 to loans originated in the 27 month pre-FA period from January 2013 through March 2015. After July 2015, there were few (if any) loans originated under the pre-FA guidelines. As the guidelines took effect in April 2015, the second quarter of 2015 includes a mix of FA and pre-FA loans.
The data show a very strong reduction in Tax and Insurance Defaults in the post-FA period. After 27 months, the pre-FA data set shows a T&I default rate of 2.3%, and an overall serious default rate of 3.1%. By contrast, the post-FA data set shows a T&I default rate of about 0.6%, and an overall serious default rate of 1.2%. For the purposes of this analysis, we define serious defaults as T&I defaults plus foreclosures and other “Called Due” status loans.
Given this result, we once again give the Financial Assessment concept high marks for reducing defaults. However, this is another mid-term grade that needs to be tested further as the post-FA portfolio ages. Average loan size and subsequent draws are also higher for the post-FA market. Average loan balances are about 12% higher for loans currently aged 27 months or less compared to the comparable HECM loan population as of March 2015. This is not surprising since homeowners of more expensive home generally have better credit and ability to pay. Also, FHA now limits the amount that can be lent in the first 12 months. As recent months of HMBS issuance show, subsequent draws and HMBS “tail” issuance are a driving force in the industry’s profits. Dollars lent, and not just at initial loan funding, is the true metric by which the industry should measure industry growth.
Editor’s note: This article was published with permission from New View Advisors, which compiled this data from publicly available Ginnie Mae data as well as private sources.)